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Arbitrage Strategies

To keep L+S=1preCTL + S = 1 preCT, when the price of LL or SS moves in one pool, price movement needs to occur in the opposite direction in the other pool.

Much like how natural arbitrage opportunities keep the price of Bitcoin balanced across exchanges, there are natural arbitrage opportunities which keep 1L+1S=1preCT1 L + 1 S = 1 preCT.

Arbitrageurs can execute these arbitrage opportunities atomically without taking any market position.

Redeem Strategy​

The redeem strategy is used when 1L+1S<1preCT.1 L + 1 S < 1 preCT.

In strategy, the arbitrageur purchases n(L+S)n(L + S) for <n(preCT)<n(preCT) from their respective pools.

The arbitrageur then redeems the n(L+S)n(L + S) for n(preCT)n(preCT) directly from the market, booking a profit.

By executing the redeem strategy arbitrageurs push the prices of LL and SS up, until 1L+1S=1preCT1 L + 1 S = 1 preCT.

The amount of preCTpreCT to redeem that will perfectly balance the pools can be derived by solving this equation for nn

  • ClC_l (Long Pool preCTpreCT Reserves)
  • MlM_l (Long Pool Virtual LL Reserves)
  • CsC_s (Short Pool preCTpreCT Reserves)
  • MsM_s (Short Pool Virtual SS Reserves)
  • FF (Swap fee)
Ml∗Cl(Ml−n(1−F))2+Ms∗Cs(Ms−n(1−F))2=1\frac{M_l * C_l}{(M_l - n(1 - F))^2} + \frac{M_s * C_s}{(M_s - n(1 - F))^2} = 1

Mint Strategy​

The mint strategy is used when 1L+1S>1preCT.1 L + 1 S > 1 preCT.

In this strategy, an arbitrageur mints n(L+S)n(L + S) for n(preCT)n(preCT) directly from the market.

The arbitrageur then sells the n(L+S)n(L + S) for >n(preCT)> n(preCT) to their respective pools, booking a profit.

By executing the mint strategy arbitrageurs push the prices of LL and SS down, until 1L+1S=1preCT1 L + 1 S = 1 preCT.

The amount of preCTpreCT to mint that will perfectly balance the pools can be derived by solving this equation for nn

Ml∗Cl(Ml+n(1−F))2+Ms∗Cs(Ms+n(1−F))2=1\frac{M_l * C_l}{(M_l + n(1 - F))^2} + \frac{M_s * C_s}{(M_s + n(1 - F))^2} = 1

Automation​

These types of strategy are best automated.

prePO will release an open-source arbitrage bot capable of executing these strategies prior to launching.